Morningstar's Guide For Senior Investors

Morningstar's Christine Benz has put together a series of investment portfolio examples that retirees and savers can refer to as they build their own portfolios. The goal of these portfolios is to help retirees and pre-retirees visualise what a long-term, strategic total-return investment portfolio could look like.

According to Morningstar, there are five common strategies that investors use to save for retirement: total market index funds, a three-fund portfolio, a custom-fit portfolio, balanced funds, and target-date funds.

When it comes to investing in your 80s and beyond, Warren MacKenzie, author and head of financial planning at Optimize Wealth Management in Toronto, advises starting with a foundation of financial sustainability. He stresses the importance of using an investment policy statement to establish a financial planning discipline to span a lifetime. MacKenzie also recommends cutting down on spending by 10% to stretch out your investments.

Total market index funds

Three of the best total market index exchange-traded funds and mutual funds that earn Morningstar Medalist Ratings of Gold with 100% analyst coverage are:

• Fidelity Total Market Index FSKAX
• IShares Core S&P Total U.S. Stock Market ETF ITOT
• Vanguard Total Stock Market ETF VTI

Three-fund portfolios

A three-fund portfolio is a straightforward investment strategy that offers a simple and effective approach to investing. It involves investing in three core asset classes: US stocks, non-US stocks, and bonds, providing a well-diversified portfolio with over 10,000 worldwide securities across different styles and cap sizes.

This type of portfolio is designed for investors who want more control and better tax efficiency than an all-in-one fund, such as a target retirement fund. It is based on fundamental asset classes, stocks, and bonds, with cash typically excluded from the investment portfolio.

Here's a breakdown of the three funds that make up this portfolio:

• Domestic Stock "Total Market" Index Fund: This fund represents the whole US stock market, providing exposure to a wide range of companies across different sectors and industries. It is often referred to as the "Total Stock Market Index Fund" and aims to capture the performance of the overall US stock market.
• International Stock "Total Market" Index Fund: This fund invests in stocks from markets outside of the US, offering diversification across different countries and regions. It is sometimes called the "Total International Stock Index Fund" and aims to capture the performance of non-US stock markets.
• Bond "Total Market" Index Fund: This fund invests in a broad range of bonds, including government, corporate, and municipal bonds. It is designed to provide a stable and less volatile component to the portfolio, often referred to as the "Total Bond Market Index Fund."

When constructing a three-fund portfolio, investors have the flexibility to choose the specific funds and their desired allocation percentages based on their risk tolerance and investment goals. Some popular fund options for each category include:

Domestic Stock "Total Market" Index Fund Options:

• Vanguard Total Stock Market Index Fund (VTSAX)
• Fidelity Total Market Index Fund (FSKAX)
• IShares Core S&P Total Market ETF (ITOT)

International Stock "Total Market" Index Fund Options:

• Vanguard Total International Stock Index Fund (VTIAX)
• Fidelity Total International Index Fund (FTIHX)
• IShares Core MSCI Total International Stock ETF (IXUS)

Bond "Total Market" Index Fund Options:

• Vanguard Total Bond Market Fund (VBTLX)
• Fidelity U.S. Bond Index Fund (FXNAX)
• IShares Core Total U.S. Bond Market ETF (AGG)

The allocation percentages for each fund will vary depending on the investor's preferences and risk tolerance. Some common approaches include the "age in bonds" rule, where the percentage of bonds held equals the investor's age, or a more aggressive approach with a higher percentage allocated to stocks.

It is important to note that a three-fund portfolio requires more active management than some other options, as investors need to periodically rebalance their portfolio to maintain their desired asset allocation.

Overall, a three-fund portfolio offers a straightforward and diversified investment strategy that can be a solid choice for investors seeking a simple and effective approach to investing across different asset classes.

Custom-fit portfolios

Morningstar's Christine Benz has put together a series of investment portfolio examples that both retirees and savers can refer to as they build their own custom-fit portfolios. These portfolios are intended to help retirees and pre-retirees visualize what a long-term, strategic total-return investment portfolio could look like.

The Bucket Approach is one such strategy. This approach is anchored on the basic premise that assets retirees need to pay for living expenses now ought to remain in cash despite its low yields. Assets that won't be needed for several years can be parked in a diversified pool of long-term holdings, with the cash buffer providing the peace of mind to ride out periodic downturns in the long-term portfolio.

The Bucket structure calls for adding assets back to Bucket 1 as the cash is spent. Investors can exercise a lot of leeway to determine the logistics of that necessary Bucket portfolio management.

Benz's Bucket Portfolios for retirees include a built-in stabilizer for turbulent times–cash reserves that retirees can draw upon when yields are insufficient to meet living expenses and it's not a good time to disturb stocks. The goal of having buffers like these is, in no small part, peace of mind. A retiree shouldn't be overly rattled during periods of short-term market turbulence because near-term spending will be relatively undisturbed, and the rest of the investment portfolio can recover when the market eventually does.

To construct a retirement Bucket portfolio, the retiree starts with anticipated income needs for a given year, then subtracts certain sources of income like Social Security and a pension. What's left over is the amount of cash flow that the portfolio will need to supply each year (in other words, the desired withdrawal amount, including income, capital gains, and outright withdrawals).

Anywhere from six months' to two years' worth of living expenses–not covered by Social Security–are housed in cash instruments (Bucket 1), and another 8-10 years' worth of living expenses are housed in bonds (Bucket 2). The remainder of the portfolio is invested in stocks and a high-risk bond fund. Income and rebalancing proceeds from Buckets 2 and 3 are used to replenish Bucket 1 as it becomes depleted.

These investment portfolio examples include aggressive, moderate, and conservative portfolio options to align with a retiree's level of risk tolerance.

Balanced funds

It's important to note that balanced funds are not suitable for short-term savings or for investors with a long runway to retirement. During the global financial crisis, for example, the Morningstar US Moderate Target Allocation Index lost 31% from its peak in October 2007 to its bottom in March 2009. As such, Morningstar recommends that investors in balanced funds should be prepared to hold on for between six and ten years.

• Vanguard Wellington
• Vanguard Balanced Index Inv
• T. Rowe Price Balanced
• BlackRock Global Allocation

Target-date funds

In addition to providing a hands-off investment strategy, target-date funds offer cost-effective advice. While they don't offer bespoke advice, they use a single data point—the investor's expected retirement age—to determine the portfolio's asset allocation. This can help investors who don't have a background in investing to find a sane investment mix given their life stage.

It's worth noting that target-date funds have received some criticism. Some people argue that they are "one size fits none" and that they only feature the house brand of funds. Additionally, they can be expensive, with additional fees for things like annuities. However, overall, target-date funds have been praised for their positive outcomes and the convenience they offer to investors.

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